Corporate suites turn sour

The second quarter was tumultuous for Lehman Brothers and Wachovia Corp., two of the country’s largest financial institutions.

Continuing a recent pattern of financial services firms firing their CEOs, Wachovia’s board has asked CEO G. Kennedy Thompson to retire. As of press time, Lehman Brothers CEO Richard S. Fuld, Jr. had avoided the same fate. But president and chief operating officer Joseph Gregory and chief financial officer Erin Callan were suddenly reassigned after disappointing second-quarter results and writedowns totaling $11 billion.

Ian Lowitt succeeded Callan as CFO, while Herbert McDade III took Gregory’s position. Callan was reassigned to a senior executive position within Lehman’s investment banking division. Gregory’s new role was unclear.

The reallocations came on the heels of news that Lehman expected to see a $2.8 billion loss in the second quarter and planned to raise $6 billion through issuances of mandatory common and convertible preferred shares.

Just days before she was reassigned, Callan said during Lehman’s earnings conference call that the capital the company expects to raise is not held against individual asset exposures on the company’s balance sheet. The efforts to raise capital are “so that we can get back to operating our day-to-day business and stop the distractions and discussions that we have related to our balance sheet,” Callan said during the call.

Meanwhile, Wachovia’s board has asked Thompson to retire after the bank suffered a series of disappointing results. An analyst at Robert W. Baird & Co. said he expects more bad news from Wachovia. “While we are not completely surprised by the announcement, Thompson’s departure was sudden in our view,” wrote David A. George, a Baird equity analyst. “We wouldn’t be surprised to see more bad news (credit, capital markets, dividends) from [Wachovia] in the coming weeks.” George maintains a neutral stance on Wachovia, saying that although the company’s share price underperformed in early June, he believed the risk/reward ratio was not attractive enough to to justify a stock purchase.

Unlike Wachovia’s Thompson, Lehman chairman Fuld did not appear to have been under any pressure to resign or retire as of press time. In fact, Fuld and Lehman still enjoyed the confidence of at least two high-profile bank analysts. “We are buyers of the shares on the assumption that Chief Executive Dick Fuld will stabilize the Lehman ship and with further stability the stock will appreciate,” Mike Mayo, an analyst at Deutsche Bank wrote in early June.

Merrill Lynch analyst Guy Moszkowski said Lehman’s share price correction in early June had been exaggerated and concerns that the bank’s share price would suffer further from a funding challenge to the Bear Stearns style were unfounded. Lehman’s shares “have fallen significantly below fair value in recent days, due to speculation and concerns that are not justified, in our opinion, given access to [Federal Reserve’s] primary dealer and ample liquidity,” Moszkowski wrote.

Those persistent rumors about liquidity put Lehman in need of some praise from analysts. Rumors of a possible sale abounded, along with reports that the company had approached a number of South Korean investors, including the Korea Development Bank and Woori Financial Group.

Those concerns were not entirely without foundation. Credit default swaps had widened from 140 basis points in early May to about 260 basis points a month later. In addition, Standard & Poor’s had downgraded Lehman’s long-term rating to A, from A+, in line with a global securities industry review.

Before Lehman’s anticipated announcement, Deutsche Bank’s Mayo predicted that Lehman would take action by raising about $4 billion in capital, citing the company’s management’s desire to maintain control of its destiny and focus more efforts on offense, instead of defensive, tactical. Still, Deutsche Bank lowered its share price target estimate to $49, from $52, and said it expects hedging losses on Lehman, as well as dilution if the company issues additional capital.

Also, before Lehman’s earnings were announced, Merrill’s Moszkowski reversed his second-quarter guidance from a profit of 6 cents a share to a loss of 74 cents a share. He blamed possible market-adjusted asset values ​​that could fall by around $1 billion, ineffective hedges and general market weakness in May.

In early June, rumors circulated that both Lehman and Wachovia would be acquired by other companies. In the case of Wachovia, such a deal is unlikely, George de Baird said. For one thing, he said, the list of potential buyers is limited to JPMorgan Chase & Co., which is already busy digesting Bear Stearns, and San Francisco-based Wells Fargo & Co. Neither company is likely to get a significant premium. of a Wachovia purchase, given all of its current challenges.